Pinpointing the true value of financial advice

Many investors baulk at paying for financial advice. They argue that there is no need to pay someone to do something that you could do yourself.

Yet a number of studies suggest that advice has a measurable value. Investors who have a financial advisor are, on average, better off than those without.

The obvious question this raises is what a financial advisor should be doing. What is the value that they can – and should – offer that would justify charging for their services?

Asking questions

At its recent Investment Conference in London, Morningstar released a new piece of research that looks at this question from a novel perspective. The company asked just under 700 investors what they valued in a financial advisor, getting them to rank 15 attributes from most to least important.

They then repeated this exercise with 161 advisors, asking them what they thought investors most valued from a financial advisor. Finally, they compared the results.

Perhaps unsurprisingly, there was a fair amount of misalignment between the two sets of responses. What investors value and what advisors think investors valued did not line up all that well, as the following graphic illustrates:

For Ryan Murphy, the lead researcher and head of decision sciences at Morningstar, this raised a few significant issues. The first was positive, in that investors and advisors agree that one of the most important things an advisor can do is help their clients to reach their financial goals.

What’s it really about?

“This is consistent with my understanding of why people invest, and provides the right benchmarks to determine whether investors are succeeding,” says Murphy. “Goals matter to investors, and advisors recognise this.”

However, this finding conflicted somewhat with what investors ranked as fourth most important: an advisor’s ability to help them maximise returns. Advisors, for their part, didn’t think that investors saw this is important at all – it was second last on their ranking.

“This, I think, is a potential misunderstanding that could be sowing the seeds for heartache,” says Murphy.

“A plan that is going to get people to reach their goals is not necessarily going to maximise returns. That’s worth having a conversation about because I think people are confused about how these two things relate to each other.”

Unfortunately, advisors themselves have probably been largely responsible for creating this issue. Together with the asset management industry, they have historically marketed themselves on their ability to deliver the best possible returns for investors by picking the top performing funds.

This is, however, an area where the value they can actually add is somewhere between minimal and negative. That being the case, they have also eroded trust in themselves because they have sold something they are largely unable to deliver.

This is why many investors disregard the value of financial advisors. They know that if all advisors are offering is fund-picking, then, with a little bit of self-education, they genuinely could do it themselves.

Behaving badly

Unfortunately this also relates to a second problem, which is demonstrated in what investors voted as the least valuable contribution that an advisor can make: ‘Helping me to stay in control of my emotions’. Advisors also recognised that this is not high on what investors are looking for.

Yet this is the area where advisors can probably add the most value.

“What are the factors that contribute most to the success of an investor?” Murphy asks. “It’s their savings rate, and their tenacity; their ability to stick with it over the long term. And good financial advice – good behavioural coaching – can contribute to both of those.”

Helping people to continue to save and stick to their plan when it is hard to do so has a material benefit. A number of studies suggest that guiding investors away from falling victim to their own doubts and biases may be the most valuable impact that advisors can make.

Morningstar’s research, however, suggests that investors aren’t aware of this. Perhaps the most likely reason for this is that they don’t know that this is something that advisors offer.

That is the fault of the industry. Financial advisors have sold themselves short for decades through practices such as offering advice ‘for free’, and only charging when their clients take out a product. If they are prepared to give something away for free, why should anyone else think that it has any value?

Financial counselling is, however, genuinely the one thing that investors can’t do for themselves. By definition, investors would never fall prey to emotional and cognitive biases if they could rationalise their own behaviour.

Advisors can therefore add enormous value by being the independent, objective voice of reason that helps investors avoid the mistakes these biases lead to. To be able to do that, however, they have a lot of work to do in getting investors to understand why it is valuable.

“You could say that people just don’t get it; they are irrational,” says Murphy. “Or, more likely, we haven’t done a good job of communicating this value.”

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